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Jpmorgan Chase Comment Letter Reg II Docket No. R-1404 02-22-11

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Jpmorgan Chase Comment Letter Reg II Docket No. R-1404 02-22-11 Ryan McInerney Chief Executive Officer Consumer Bank Via Email: [email protected] February 22, 2011 Jennifer J. Johnson, Secretary Board of Governors of the Federal Reserve System 20 th Street and Constitution Avenue, NW Washington, D.C. 20551 Re: Proposed Regulation II; Docket No. R-1404 Dear Ms. Johnson: The Board of Governors of the Federal Reserve System (the “Board”) has requested comments on its proposed Regulation II, implementing the amendments to the Electronic Fund Transfer act (the “EFTA”) set forth in Section 1075 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (commonly known as the “Durbin Amendment”), mandating new restrictions on debit card interchange fees and new requirements for debit card network access and routing (the “Proposal”). JPMorgan Chase & Co., on behalf of JPMorgan Chase Bank, N.A., a major debit card issuer, Chase Paymentech Solutions, LLC, a major merchant acquirer, and its other subsidiaries, appreciates the opportunity to submit this response. JPMorgan Chase & Co. (NYSE: JPM) (“Chase”) is a leading global financial services firm with assets of $2.1 trillion and operations in more than 60 countries. The firm is a leader in investment banking, financial services for consumers, small business and commercial banking, merchant acquiring, financial transaction processing, asset management, and private equity. A component of the Dow Jones Industrial Average, JPMorgan Chase & Co. serves millions of consumers in the United States and many of the world's most prominent corporate, institutional and government clients under its J.P. Morgan and Chase brands. Information about JPMorgan Chase & Co. is available at www.jpmorganchase.com . For ease of reference, we have organized this letter into sections, summarized in the table below and highlighted by section headings throughout the letter. JPMorgan Chase Bank, N.A. 270 Park Avenue, Floor 32, New York, NY 10017 Telephone: 212 270-3371 Page 2 Contents A. Introduction Page 3 B. Executive Summary Page 3 C. Interchange Discussion 1. The Proposal Is Inconsistent With The Durbin Amendment Page 7 a. The Durbin Amendment Does Not Require Price Caps Page 7 b. The Proposal Fails To Provide Standards As The Durbin Amendment Requires Page 7 c. Debit Is Not The Same As A Check Page 8 2. The Proposal Incorrectly Defines and Limits Costs Page 9 3. Commentary on Interchange Fee Alternatives 1 and 2 Page 10 4. A Fraud Prevention Cost Adjustment is Imperative But Not Sufficient Page 12 5. The Proposal’s Price-Fixing Will Have Significant Negative Consequences Page 14 a. Negative Impacts on Consumers Page 14 b. Risk to Payment System and Economy Page 15 c. Innovation Stifled Page 15 D. Network Exclusivity/Routing Discussion Page 16 a. Alternative A Is Better Than Alternative B Page 16 b. Network Mergers/Acquisitions Page 18 E. Other Comments Page 18 F. Conclusion Page 25 Appendix 1 Estimated Industry Costs to Support Debit Cards Page 26 Appendix 2 Consumers Exiting the Banking System Page 27 Appendix 3 Fraud Costs vs. Transaction Size and Merchant Page 28 Page 3 A. Introduction Chase recognizes the Durbin Amendment imposes significant challenges upon the Board and we acknowledge the Board’s efforts to take a thoughtful approach to the Proposal. Nevertheless, as discussed in more detail below, Chase believes the Proposal is fundamentally flawed and respectfully urges the Board to make significant revisions before issuing a final regulation. In this letter Chase explains why we believe: (i) the Proposal reflects a misinterpretation of the Durbin Amendment’s interchange provisions and imposes a more rigid and problematic price control approach than the Durbin Amendment requires; (ii) even if the Board correctly interpreted the Durbin Amendment regarding interchange, the Proposal implements the Durbin Amendment incorrectly by precluding a debit issuer from recovering actual costs and realizing a reasonable return; (iii) the Proposal would result in significant negative and unintended consequences to consumers, small businesses, the payment system and the U.S. economy; and (iv) the Proposal’s timelines are unrealistic and must be extended to allow for further study and successful implementation. In addition, we will comment on the Proposal’s network exclusivity and routing provisions and certain other operational questions the Board posed when releasing the Proposal. B. Executive Summary Debit cards are an extremely convenient, efficient and popular payment device for consumers and merchants, millions of whom benefit every day from the ease and security debit cards offer. As a result, over the past decade U.S. debit transactions have grown from 8 billion in 2000 to 38 billion in 2009. Merchants have received tremendous benefit from the wide use of debit cards, which has enabled many to change their business model to lower costs and increase sales. In fact, entire categories of merchants, such as internet retailers and airlines, depend almost exclusively on debit, and credit, cards. The Proposal, however, would materially undermine the debit card as a viable payment vehicle for countless consumers, merchants and issuers. As described in the Proposal, the Durbin Amendment sets forth three new directives specific to debit cards and directs the Board to issue implementing regulations consistent with those directives: Page 4 (i) subject to certain important exceptions, the interchange fee for a debit transaction shall be reasonable and proportional to an issuer’s cost with respect to the transaction; (ii) card issuers and networks must allow debit card transactions conducted with a particular card to be processed on one of at least two unaffiliated networks; and (iii) card issuers and networks must allow merchants to select the network, of those enabled on a particular card, over which to route a transaction. The Durbin Amendment affords the Board discretion and flexibility to establish standards for whether an interchange fee is “reasonable” and “proportional to cost,” and determine what costs can be recovered through interchange. Implicit in the statutory language is that the Board should include all costs and allow for a reasonable return . However, the Proposal takes a much more narrow approach, and imposes stringent price controls, thus creating inconsistencies between the Proposal and the Durbin Amendment. In particular, the Proposal fails to establish any standards for assessing whether an interchange fee is reasonable and proportional to cost, instead imposing specific prices capped at a gross underestimate of cost, with no reasonable return allowed. Further, when determining those costs, the Proposal adopts the mistaken view that debit transactions and checks are functionally equivalent, and that merchants incur little cost to accept checks. As a consequence of this misguided attempt to treat debit the same as a check, the Proposal excludes numerous issuer debit costs when the statute contains no such limits. Finally, the Proposal not only limits interchange to cost, and the wrong cost at that, but it actually seeks to regulate and reduce costs despite an absence of any statutory directive to do so. As a result, based on the Board’s recent issuer cost study, the Proposal would limit interchange to only 17% of the issuer’s actual cost of a debit card transaction. This is neither reasonable nor proportional to cost incurred, and it is not consistent with the Durbin Amendment’s directive to “establish standards for assessing” whether interchange is reasonable and proportional to actual costs. By fixing debit pricing artificially low and precluding debit card issuers from recovering their actual costs and earning a reasonable return, the Proposal would have significant negative and unintended consequences, harming consumers, small businesses, the U.S. payment system and the broader U.S. economy. In particular: • Overall banking costs for consumers and small businesses will increase significantly. Because the Proposal precludes issuers from recovering all their costs associated with debit card programs through interchange, they will seek to recover these costs elsewhere. See Appendix 1 , Estimated Industry Costs to Support Debit Cards. Page 5 • Many consumers will not be able or willing to pay for higher cost banking services and likely will be forced out of the mainstream banking system. These customers most likely will be forced to resort to more expensive and less regulated alternative financial services providers, such as check cashers and payday lenders. See Appendix 2 , Consumers Exiting the Banking System. • Issuers and networks likely will restrict debit card usage at certain merchant types or for certain transactions, and/or cap the maximum purchase amount to reduce fraud losses, creating a burden on the consumer, merchant and payment system as a whole. See Appendix 3 , Fraud Costs vs. Transaction Size and Merchant. • Smaller merchants incurring increased costs associated with greater cash and check volume likely will see decreased sales and suffer reduced profitability, forcing them to increase prices and/or curtail marketing, expansion hiring, etc. • Price-fixing will reduce innovation, and lead to a less safe and secure payment system. Fixing prices at 15% to 20% of current rates will stifle future investment and innovation that benefits consumers and merchants (e.g., mobile payments, fraud protections, photo cards, account alerts, contactless payments). • The Durbin Amendment tries to exempt small banks and credit unions from
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